A Complete Guide to Real Estate Syndication

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Contributor, Benzinga
October 18, 2023

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Want to learn more about how to passively invest in real estate through real estate syndication? Keep reading to learn the basics of this investment strategy and how to get started.

For as long as people have been investing in real estate, the cost of acquisition has been an issue bedeviling investors. Real estate costs a lot of money. It always has.

Even when you look back in time and see how "cheap" a given property was 20 years ago, you have to consider that the price 20 years ago wasn't cheap.

It was likely just as hard for investors to buy that cheap property back then as it is for you to raise money to buy the property today. The same thing will be true for whoever buys your investment property from you in 20 years.

With that said, the more capital you can raise, the more real estate you can buy and profit from when it appreciates. That's why real estate syndication has become such a popular way to raise funds and for individuals to get into real estate investing.

What is Real Estate Syndication?

Real estate syndication is the classic way of describing real estate crowdfunding. In a real estate syndication deal, money is raised from a large group of like-minded investors to purchase real estate investments. In most cases, real estate syndication is used to purchase larger investment properties, which are usually multifamily or commercial properties. Examples of the kinds of properties investors purchase through syndication include:

  • Large multifamily apartment complexes
  • Self-storage facilities
  • Mobile home parks
  • Industrial parks
  • Hospital and medical facilities
  • Hotels
  • Large tracts of land for development or farming

Although the real estate syndication opportunities listed above represent different commercial real estate asset classes, they have one thing in common. That's the potential for passive income and asset appreciation, which is the ultimate goal for most investors. The only thing better than an asset that appreciates over time is one that generates cash flow while it appreciates.

How Does Syndication Work in Real Estate?

Most real estate syndications consist of two distinct but equally important groups of people: syndicators and investors. The syndication sponsor or syndicator is usually a real estate development or management company that is made up of a team of successful real estate investors or professionals.

They seek investment opportunities that are geared toward their area of specialization. Sometimes they buy vacant land and build from the ground up, but in many cases, they identify an existing project that has a potential upside in rental income or appreciation value.

Usually, these opportunities will be in markets at the beginning of a growth cycle that the real estate investing community at large has not picked up on. Imagine trying to find a fishing hole. Ideally, you want a place that's stocked with fish but hasn't yet been overrun by dozens of anglers who already have lines in the water.

Once the sponsors have scouted out an opportunity, they will figure out how much of their own funds they're willing to commit to the project in relation to its total cost. The capital syndicators need to complete the project minus their original contribution is what they will try to raise via syndication.

At this point, you might be wondering why the syndicators don't just borrow money to complete their deals. First, debt service and bank interest eat into profits. Second, not all syndication deals meet bank underwriting requirements. So, syndicators raise capital by recruiting passive investors instead of borrowing. Each investor will receive an equity share in the syndicated deal. Some syndication deals will involve bank loans, but syndicators try to limit borrowing to a minimum.

How are Real Estate Syndication Deals Structured?

Real estate syndications typically have a pyramid structure. The project sponsor, also known as the syndicator, is at the top of the structure. They will manage the project, oversee the renovations and make all the major decisions about the direction of a particular deal. They are chiefly responsible for making sure the deal in question is finished on time, under budget and meets the goals laid out in the investment prospectus.

Passive investors fall below the syndicators. These are investors who own an equity share of the syndicated deal but do not have a say in the management of the project. The term passive investor means they receive passive income and profits from the syndicated deal while not being directly involved in its day-to-day management.

Under most circumstances, the buy-in cost of a real estate syndication deal is so high, that these opportunities are only available to accredited investors. However, online crowdfunding platforms like Arrived Homes and Gatsby are beginning to change that and make syndication opportunities available to non-accredited investors.

The pyramid framework that underpins most real estate syndication deals generally have one of two different structures:

  • Limited partnership: In a limited partnership, the project sponsor (top of the pyramid) will function as the general partner, and the investors will be limited partners, also known as passive investors. The general partner will handle the day-to-day management. The limited partners can partake in the profits but have no role in decision-making or asset management.
  • Limited liability company (LLC): In an LLC, the project sponsors are known as Class A members. They assume the same role as the general partner in limited partnerships. Individual investors are known as Class B members. They have equity in the project and receive distributions (or a share of the profits when the project is sold) but don't do any hands-on asset management.

Profit Splits

The profit split in a real estate syndication deal is of primary concern to most investors. The profits investors receive in a real estate syndication deal will be based on the amount of equity they have in the project, which is why their distributions are also known as equity splits.

Under most circumstances, the amount of an individual investor's equity split hinges on how much they invested, however, some investors have what is known as preferred equity. Preferred equity shares are usually given to investors who got in early or made especially large contributions to the project in question.

In cases where investors are given preferred equity, their initial investment entitles them to a larger share of equity per dollar invested than other partners or investors who buy into the project at a later date. In cases where there are regular distributions to investors, preferred equity holders also receive a higher distribution. This is in addition to receiving a larger share of the appreciation value of the syndicated property when it's sold at the conclusion of the investment period.

Investment Terms and Holding Period

No two real estate syndication deals are alike. Every real estate syndication deal has its own investment terms and holding period. For investors, the holding period is of particular concern.

During the holding period, investor capital is locked or illiquid, meaning the investor can't pull money out of the project even if they encounter hardship or extreme need. Although some real estate syndication deals may have secondary markets where investors can sell their shares, this is not common and there may be a penalty.

Whether there is a secondary market and penalty for investors liquidating shares on it will all be part of the terms of the syndication deal. The operating agreement between the syndicators and the investors will also spell out other investment terms including:

  • Distribution schedule (if there is one)
  • Equity stack (breakdown of how much equity investors, sponsors and financiers have in the deal)
  • The capital call schedule (dates at which investors will have to contribute capital to the deal)

Real Estate Syndication Deal Fees

Every investment offering or syndication deal will have a fee structure because syndicators incur costs while working and managing projects. The fees are passed on to investors as part of the cost of doing business. There will be accounting or administrative fees associated with filing the tax paperwork required for real estate syndication deals.

Syndication deal partners also pay a portion of the management fees that go with managing the investment. In many cases, the syndicators also manage the investment but they may hire outside management. However, there will likely be a management fee regardless of whether the management is done in-house by the sponsor or a third party.

While the exact fees involved in a syndicated real estate investment vary from deal to deal, some of the common fees involved include:

  • Acquisition fee – The fee a sponsor collects for finding the deal, organizing the entity, managing the fundraising efforts and closing the transaction.
  • Financing fee – A fee the sponsor may collect if financing is involved in the deal. This covers the time, costs and risks that go into obtaining the loan.
  • Asset management fee – This is the asset management fee the sponsor collects, which is typically based on a percentage of the asset value and collected annually.
  • Property management fee – This fee may go to the sponsor if they are managing the property themselves or to a third-party property manager.
  • Disposition fee – The fee a sponsor may collect at the tail end of the investment when the property is sold in exchange for finding a buyer and managing the transaction.

How Real Estate Syndicators and Investors Make Money Off Syndication Deals

In most cases, syndicators make money once their deals hit their performance targets and are sold off at a profit over what the syndicators and the private investors put into the investment. Imagine a syndicator puts in $10 million to buy a $20 million property.

This gets the syndicator a 50% equity share.

They raise another $15 million from investors to complete the purchase and upgrade the property. If the upgrades result in increased rents and the property hits its Pro-forma investment goals, syndicators make money in two ways. They'll get 50% of the increased rents after expenses. Then, if they sell the building for $40 million, that's a $15 million profit on the syndicator's original $10 million investment.

As a 50% equity holder, the syndicators would make $7.5 million on the deal after the property was sold. Individual investors would be paid a portion of the remaining $7.5 million profit on a prorated basis determined by how much equity they originally bought in the deal. Investors will also get a prorated share of any increased rents generated during the hold period.

How to Find Real Estate Syndication Deals

Generally, there are two ways for you to find real estate syndication deals. You can rely on people in your own network such as family, friends and professional contacts to scout out investment opportunities. This could mean syndicating your own deal with contributions from friends and family, or it could mean you contributing as an investor to a real estate deal being syndicated by someone in your personal or professional network.

If you don't have any like-minded investors in your personal network, you still have options. Since the JOBS Act passed in 2012, online crowdfunding platforms like Gatsby, Crowdstreet and RealtyMogul have been able to provide a marketplace for syndicated investments on commercial real estate deals across all real estate asset classes.

You can also browse offerings from multiple sponsors and crowdfunding platforms based on your specific criteria with Benzinga's Real Estate Offering Screener.

Benefits of Investing in Real Estate Syndication

Real estate syndication offers investors a host of tangible benefits. First, the opportunity to buy equity into a well-vetted real estate offering that will (hopefully) earn income while it appreciates offers investors the best of both worlds. Syndication deals that come off successfully can generate a healthy profit.

Second, investors can earn this income passively and without involving themselves in the direct management of the asset. Third, having equity in a real estate limited partnership or LLC through syndication offers investors tax benefits like depreciation write-offs.

Additionally, you have some measure of control over where you invest your money in a syndication deal even if you don't manage the asset. In a standard real estate investment trust (REIT) , you put your money in and the fund manager moves it as they see fit. In addition to having zero input into management decisions, you have no say about what assets the REIT buys.

Risks of Investing in Real Estate Syndication

The old saying "Every rose has its thorns" is true of real estate syndication deals. They have considerable upside, but there are risks. The most obvious of these is the loss of investment principle if the deal doesn't make money.

The other big risk is that investment contributions will remain illiquid for the term of the syndication deal. So, before you make an investment, you must be 100% certain you can cope with the potential for loss and the illiquidity that comes with syndicated real estate deals.

You must also be able to meet the scheduled capital calls as outlined in your investment agreement. Not all syndication deals call for full funding commitments upfront. Some of them have scheduled dates where investors must submit capital to the project. These dates are known as capital calls. If you fail to meet them, there can be serious legal and financial consequences. You can lose your equity and be sued by the syndicator.

Final Thoughts on Real Estate Syndication

When done correctly, syndication deals offer tremendous upside, allowing both syndicators and investors to get a lot of bang for their investment buck. If you’ve been wanting to get involved with commercial real estate for passive income but were put off by seven- and eight-figure purchase prices, syndication may be the perfect investment vehicle for you. 

Consider the risks and your investment goals carefully as you would do with any investment. But if you like the deal points, and you can handle the downside (hold period, potential loss of income), the right syndication deal could be a perfect addition to your investment portfolio.

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Real Estate Syndication Frequently Asked Questions

Q

Is real estate syndication profitable?

A

Real estate syndication can be extremely profitable when investing in the right deals. It’s important to conduct thorough due diligence on the project as well as the sponsor to ensure the offering’s financial projections are realistic and the project is likely to hit its target returns.

Q

How much money do I need to invest in a real estate syndication?

A

The minimum investment required to invest in a real estate syndication varies depending on the sponsor, the project or the platform used to raise money. However, the minimum investment typically ranges from $25,000 to $100,000.

Q

Are there fees in real estate sydication?

A

Yes, there are fees in real estate syndication. Depending on who you do business with, the fees will vary.

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